Tuesday, November 18, 2008

The bond market is feeling better these days, with swap spreads, the TED spread and implied volatility down significantly from their recent highs, but the stock market is still in the grips of a paralyzing fear, as this chart reminds us. This chart divides the VIX index (a measure of fear) by the yield on the 10-year Treasury note (a measure of the demand for safety). The bigger the ratio, the worse the panic.

6 comments:

I noticed that you label the current economic crisis "subprime." I may be making too much out of a label, but I still wonder if the suprime mortgage defaults aren't just the canary in the coalmine. The total loss of housing market cap well exceeds the subprime defaults. Even the wealth effect (loss) from that total housing decline doesn't fully explain the rapid decline in consumer spending. Perhaps it is all just a fear based overreaction to the above and balance will soon return.

However, I have to wonder if this isn't all the result of the peak of the baby boomer demographic crossing over the age of 47, which is the age people in aggregate start reducing consumption level because their for houshold formation phase of life is coming to an end.

Also, the number of older baby boomers is rising rapidly, and even though they have only started to retire, their healthcare needs start to rise exponentially as they approach those years. We can also see the consequences of this from the strain our healtcare system has begun to experience. For example, the average waiting time in our emergency rooms recently crossed over one hour. Although this prduce a rise in healtchare spending in our economy, it takes away from other spending. This shift towards healtchare consumption will only accelerate in coming years.

Mark: I don't see how the demographics can change fast enough to account for even a part of this crisis. I think subprime loans get the blame for starting the crisis, but it has now obviously spread. With this market collapse and recession I bet a lot of people postpone their retirement and end up working longer.

As for healthcare, I can't see things getting better until we have market-based reforms.

j: loosening immigration would be an excellent idea that would go a long way toward fixing all sorts of problems. The demographic challenge for all industrialized countries will be to attract immigrants, and lots of them, otherwise they face a shrinking economy.

Scott: Can you share your experiences during other market panics? My first "bear" market as an active investor was 2000-2002, and I found that easy to tolerate because it was so clearly based on a kind of pyramid party in tech stocks (remember Webvan?). What is troubling about this experience is that companies that have earnings and solid balance sheets seem to be without support. We now own companies selling for their net cash, and they are still going South. When have you seen this before?